Identiv, Inc. Q3 FY2022 Earnings Call

Good afternoon. Welcome to Identiv’s Presentation of its Third Quarter 2022 Earnings Call. My name is John and I will be your operator this afternoon. Joining us for today’s presentation are the Company’s CEO, Steve Humphreys; and CFO, Justin Scarpulla. Following management’s remarks, we will open the call for questions. Before we begin, please note that during this call, management may be making references to non-GAAP measures or guidance, including adjusted EBITDA and free cash flow. In addition, during the call, management will be making forward-looking statements. Any statements that refer to expectations, projections, or other characteristics of future events, including future financial results, future business and market conditions, and future plans and prospects, are forward-looking statements. Actual results may differ materially from those expressed in these forward-looking statements. For more information, please refer to the risk factors discussed in documents filed from time to time with the SEC, including the Company’s latest annual report on Form 10-K. Identiv assumes no obligation to update these forward-looking statements, which speak as of today. I will now turn the call over to CEO, Steve Humphreys for his comments. Sir, please proceed.

Thanks, Operator. And thank you all for joining us. In the third quarter, we had record revenues and took strategic steps forward but also ran into some serious challenges. We have a scale-up order for delivery in Q4 of up to 25 million units in Bluetooth-enabled IoT for Wiliot, a transformational category that we believe is now happening, going from just sample units to millions of units. Our premises segment showed increasing strength, delivering another quarter of growth at nearly three times the market rate and a record premises backlog going into Q4. This is especially important because premises generates the majority of the gross margin dollars that are key to our business' strength. We delivered record quarterly top line revenue at $31 million, the first time we've been over $30 million in a quarter. Revenue identity was $19.2 million while premises was 11.8 million. Both are new records, and revenue for the trailing 12 months was $112.4 million. Non-GAAP gross margin was 37% on our target level, and adjusted EBITDA for Q3 was $2 million. We grew RFID unit shipments 17% year-over-year to 45.4 million units. This would have been higher, but we were limited by component supplies, which I'll talk about later. We also set new records for order backlog. Our total backlog at the end of Q3 was $36.9 million, up 31% year-over-year and backlog for delivery in Q4 is $16.6 million, up 42% year-over-year and 19% sequentially. So our growth drivers are in place. But I need to start by thoroughly addressing the shortfall in our Q3 top line revenue relative to our internal expectations and the actions we're taking. Despite the strong business results in absolute levels, they're below where we planned to be. The shortfall was all in our Identity segment. Our contingency planning wasn't solid enough to offset what happened, and we totally own that. I'll go into the details. But I'll say right now our contingency planning failures can never be allowed to happen. It happened. It's unacceptable. And we've taken steps to make sure it never does again. Our Identity revenues fell short for three reasons. First, a major customer decommitted almost a million and a half dollars of orders as they realign their supply chain from China to India and ran into soft demand for their products. Second, we had component shortages that would have impacted over $4.5 million in revenues across Identity and Premises. We offset about a million dollars in premises but couldn't produce in Identity about $3.5 million in the quarter as a result. Third, we decided not to fill in the Identity revenue gap with lower-margin product. We did that in Q4 of 2021 and that hit our gross margins by more than 400 basis points. We committed that we would never do that again. So we didn't. The result was a revenue shortfall in Q3 of almost $5 million. Our contingency planning was clearly poor. We missed by far more than we ever should. Customer demand shift and supply chain were the immediate cause. But we should have had the extra flexibility in demand, supply, and production built in to absorb it. It doesn't matter that we managed the supply chain mess for the past two years, as that was all undone with a miss like this. We own that. We've made changes and are taking actions to fix it. It doesn't change the disappointment I personally feel for this impact. Here are the actions we're taking. First, we have new operations and supply chain leadership. Our new global VP of supply chain in our Santa Ana headquarters started last month with experience from Flextronics and other world-class operations. In parallel, our COO Manford Mueller is focused almost exclusively on RFID supply chain and operations. Second, we've sharpened our focus on supply availability, and we're only planning and forecasting based on reconfirmed chip supply in-house that are known to be on the way. For the big program and BLE IoT, we have the chip supply already in-house for committed deliveries for the volumes that we're counting on in Q4, and we've aligned with them on an allocation schedule through 2023. In terms of customer forecasts, we built on the books orders to offset variations in previously committed customer orders, and we're managing it weekly. Third, we've finished redesigns for two of our main products, giving us component interoperability. So the highest volume product in premises and identity readers each have chip alternatives, either in place already or fully online by Q1. There are other actions we've taken to make sure this never happens again. We could go into more detail in Q&A, and as we hear later, we're also taking a hard line on base expectation setting. I wanted to take this revenue shortfall head-on so it doesn't overshadow our progress right when transformational projects are driving volumes in Q4, our IoT industry leadership is growing, and our Premises business is in the best position ever, as shown in the results. Both BLE enabled IoT and cannabis are transformational categories for our business. In the case of Wiliot, we're going from sample amounts to over 10 million units in a single quarter. With multi-frequency data devices for cannabis MSOs, we're going from a few tens of thousands of units to over a million in the quarters ahead. Similarly, our premises growth and market share gains continued. In a market growing 5% to 6%, we grew 14%. Even with this growth, we went into Q4 with a record premises backlog of over $3 million. That, plus our pipeline, indicates continued above market growth in Q4 and 2023. This is key for three reasons. Our Premises business contributes disproportionately to our gross margins. Second, our strategy has always incorporated both segments as they connect in the IoT category, so growth in each business reflects health in our strategy. Third, recent valuation proof points show the asset value of premises security businesses contributing meaningful value to our overall company. With that context, I'll go into other trends and events in Q3 that underline our results as the foundation for our projections. Our engineering-driven RFID activities were strong. Our energy projects grew from 38 projects in Q2 to 56 in Q3. We're continuing to build more tangible opportunities through our engineering excellence. We also maintained our track record of 100% customer retention in RFID. In healthcare, we made particular progress. We've added another global injector vendor, so we now have active projects with four of the top five global auto-injector companies. The one that's for this long has placed an order for 500,000 units, and in Q3, we delivered our second and third auto-injector NRA projects. This category is part of the medical industry trend towards in-home self-administered care because of the very high ROI versus in-clinic care. In Premises, momentum was strong across the board, continuing our growth and market share gains. Combined premises and access card revenues managed by our premises business unit team grew year-over-year by 22%. The health of this business also shows in the premises segment gross margins, which have remained solid despite supply chain challenges. Here's some additional premises metrics for Q3. Our commercial business is continuing to grow in addition to our federal government business where we've always been strong. We've completed OEM and reselling agreements for access card readers with two of the top five access control vendors building on the market share we're winning. We had supply chain challenges in premises but were able to overcome nearly all of them. Having in-house U.S.-based final production allowed us to adjust right up through the final days of the quarter. With the strong demand and total production flexibility, we met our goals and entered Q4 with a record premises backlog of $3 million. I don't want to over-focus on our Premises business since the challenges we have to work on are in identity. But our strategy has always been to have two strong businesses that cross-leverage technology and converge strategically over time. The recent pressures in small-cap growth equities indicate that any reasonable value placed on the Premises business alone, a business that's growing sustainably at 15% to 20% with strong gross margins and over 15% recurring revenues, should support our company's entire current value. Continued growth and profitability in our Premises business, plus our RFID-based IoT business, which has shown strong market demand, we believe will drive value creation. We need to execute, deliver predictable core results, and build on the progress in our transformational opportunities. In September alone, we delivered nearly $17 million in revenues for that month. This shows that our business base can generate revenues on an annualized basis of nearly $200 million with healthy margins. To summarize, the underlying business demand is solid. Our business model is intact and our strategy is hitting milestones. Our focus is on execution and predictability by anticipating problems in our RFID supply chain, supporting the growth and margins in our Premises business, maintaining our disciplined momentum in specialty RFID devices, and planning contingencies and projections so we never again have gaps between expectations and results. With that, Justin, over to you for the financial updates.

Thanks, Steve. As Steve mentioned, despite significant supply chain issues and customer demand reductions, our financial results reflect our continued strength exiting the third quarter of 2022 with the delivery of sequential and year-over-year growth in revenue, with total feature backlog increasing 31% year-over-year. We remain committed to protecting our margin and maintaining tight control over our operating expenses. The trailing 12 months revenue was $112 million, up 12% versus the comparable prior year period. The sequential and year-over-year change in revenue was across both our premises and identity segments. Third quarter 2022 GAAP gross profit margin was 36%, a decrease compared to 37% in the second quarter of 2022, and a decrease compared to 38% in the third quarter of 2021, primarily due to product mix. For the third quarter of 2022, non-GAAP adjusted gross profit margin was 37%, which was consistent with our consensus estimates, a decrease compared to 38% in the second quarter of 2022 and a decrease compared to 39% in the third quarter of 2021. Non-GAAP adjusted gross profit margin changes resulted primarily from our product mix, as well as our continued investments in technology and manufacturing processes and equipment. We remain committed to a long-term non-GAAP adjusted gross profit margin target of 40% to 45%. In the third quarter of 2022, our GAAP and non-GAAP adjusted gross operating expenses, including research and development, sales and marketing, and general administrative costs were $10.6 million and $9.5 million respectively, compared to $10.5 million and $9.2 million in the second quarter of 2022 and $9.1 million and $8.2 million in the third quarter of 2021. Our non-GAAP adjusted EBITDA was $2 million or 7% of EBITDA margin in Q3, 2022, as compared to $1.4 million in Q2, 2022. Although this was below consensus estimates, we continue to maintain our expected margin and operating expense profiles. We remain committed to a long-term non-GAAP adjusted EBITDA margin of 15% to 20%. Our Q3 GAAP net income was $0.5 million or income of $0.01 per share. We have provided the appendix today a full reconciliation of GAAP to non-GAAP information, which is also included in our earnings release. Our next slide further analyzes trends by segment beginning with Identity revenue from our Identity products totaled $19.2 million or 62% of total revenue in Q3, 2022, which is a 13% increase from Q2, 2022 and a 2% increase from Q3, 2021. The sequential and year-over-year increase in Identity revenue was primarily driven by higher sales of RFID transponder and access card products. The year-over-year increase was partially offset by a continued decrease in our legacy smart card reader revenues. Our Q3 Identity segment non-GAAP adjusted gross margin was 24% compared to 25% in Q2, 2022 and 29% in Q3, 2021. The year-over-year decrease is due to product mix with lower sales of our legacy smart card readers. Quarter-to-quarter margins can fluctuate, but we expect long-term margins to trend upwards from current levels as we expand and deepen our existing customer and technology partnerships. We believe our focus on more complex devices is strategic and our relationships with our customers will further strengthen our margin profile. We remain committed to a long-term gross margin target of 35% to 40% in our Identity business. Now turning to the Premises segment, this segment accounted for $11.8 million or 38% of our total revenue in Q3, representing an increase of 8% from $10.9 million in Q2, 2022 and a 14% increase compared to Q3, 2021. The sequential and year-over-year increase in Premises segment revenue was across both federal and commercial businesses, as well as continued focus on expanding our market share and offering a total platform solution. Non-GAAP adjusted gross margins for Premises in the third quarter of 2022 were 59% compared to 58% in Q2, 2022, and 58% in Q3, 2021. The sequential and year-over-year changes were primarily due to product mix. We remain committed to a long-term gross margin target of 55% to 60% in our Premises business. Moving now to our operating expense management, our non-GAAP operating expenses in the third quarter of 2022, adjusted to exclude restructuring and severance costs and certain non-cash charges consisting of stock-based compensation and depreciation and amortization, was 31% of revenue compared to 33% in Q2, 2022 and 28% in Q3, 2021. This resulted in our third consecutive quarter of positive non-GAAP adjusted EBITDA. In summary, we continue to deliver a consistent gross margin profile and tight controls over operating expenses in our business while reinvesting for growth within our current cost structure. Now turning to the balance sheet, we exited Q3, 2022 with $21.9 million in cash and cash equivalents and restricted cash. We spent $2.9 million on strategic inventory purchases and $1.4 million on capital expenditures. We remain debt-free, and we have maintained strong working capital positions. In our 10-Q filings, we will be providing a full reconciliation of the year-to-date cash flows. For completeness, we have included the full balance sheet and the appendix of this earnings release. As we move to the fourth quarter, our total backlog for all future shipments was $36.9 million exiting Q3, 2022, up 31% versus Q3, 2021, which provides visibility into the current business momentum we anticipate coming through 2022. Even though we delivered record quarterly revenues, built a strong backlog, and reported positive momentum in our transformational categories; the current environment we outlined – delayed customer orders, shifting supply chain availability, and production-related challenges combined with today's difficult macroeconomic conditions, impacted our results. Therefore, we are updating our full year 2022 guidance range today with expected revenue between $112 million and $118 million. We are updating our 2023 guidance to indicate a 20% to 25% year-over-year revenue growth. Normal seasonality is expected to continue. With that, I will conclude the financial discussion and pass the call back to Steve.

Thanks, Justin. As we look to Q4, 2023, and beyond, the clearest indicator of future business is backlog. Total backlog is up 31% year-over-year and backlog for delivery in the fourth quarter is up 42% year-over-year. Behind this backlog, our RFID business is driven by NREs and transformational projects, and our premises business is driven by our product and channel strength, as reflected in our growth, market share gains, and gross margins. To support these strengths, our business can grow and lead our markets, we have to do a much better job anticipating supply shortages and economic cycles. In a few minutes, I'll go into the pressures we see and exactly how we plan contingencies so shortfalls like Q3 never happen again. Let me first update you on our transformational opportunities. As I mentioned in the opening comments, we now have key projects starting to ramp in Q4. Wiliot has placed an initial 25 million unit order, of which we expect to deliver about 10 million units in Q4, carrying the rest into Q1. Wiliot’s projections for 2023 are above that $25 million units per quarter run rate, and the price points are in the high $0.20 range. Our mobile customer has resumed volumes in Q4, and we know they could be affected by the economy, so we're watching their indicators closely and forecasting volumes carefully. In specialty retail, our project for smart casino chips is confirmed with the vendor and has made progress. In consumer engagement, we're continuing to work with collect ID on new applications. We delivered an NFC enabled immersive fan experience for a German football club, where our NFC tags were embedded in special team scarves, allowing fans entry into the stadium without a printed ticket; during the match, users received real-time digital content offers and rewards. Our tags authenticated and provided each fan with a personalized experience, and we're working with collect ID to extend this to other football clubs across Europe. As mentioned earlier for the cannabis market, we're going to produce over a million units of our multifrequency RFID devices supporting the largest MSOs in the U.S., as well as potentially CBN in Canada. We've collaborated with leaders in the cannabis industry to develop three multi-use smart tamper seal designs that were deployed in the market this year. We and our partners believe that these will become standard across the cannabis supply chain and core to the user experience for cannabis customers. Lastly, the long-term category in healthcare, particularly auto-injectors, I mentioned that we now have active projects with four out of the top five global auto-injector companies, and one has placed an order for half a million units for 2022. Based on market analysis from our customers, we're still convinced this will develop into a multi-hundred million unit category for RFID enabled IoT medical devices. The prescription pill bottle category is now consolidated under one of our partners, Envision America, leading to four of the top six pharmacy chains in the U.S. now engaging in spoken RX projects supported by our RFID devices. We're prioritizing this category for shipments in Q4 to cover about $600,000 that we didn't manage to ship in Q3. Our commitment to the healthcare market is reflected in our two most recent board appointments. I won't restate their profiles, but they're both highly experienced in managing disciplined global operations for multinational healthcare companies and integrating new technology into medical products and healthcare operational processes. Their expertise will be very valuable to our growth plans in this important market. Transformational categories are making progress and a couple are starting to scale production volumes. We're also finalizing and launching our IoT solutions platform that will provide our customers with a bundled solution for devices and software. This SaaS platform includes device management services, consumer experiences, data analytics, and APIs building on our encoding services. It manages IoT devices and their data, as not only digital triggers but as intelligent monitoring and sensing devices throughout their life cycles. With this progress, we're confident that these categories will emerge and the market scale opportunity is significant. However, there are also three headwinds: supply chain, the economy, and customer adoption time for complex technology like our specialty RFID devices. I've covered supply extensively; we are being far more careful in our projections and contingency planning. Even with orders on the books for over 300 million RFID chips, we are still seeing some decommitments and inconsistent allocation from component suppliers. Therefore, we are projecting based on committed deliveries or in-house inventory. The economic issue we have been resilient to has caught us in Q3, and we must factor it into our expectations. Our customers are becoming more cautious, and some are witnessing lower demand, as happened with one in Q3. Even in recession-resistant categories, we must prepare for customers to be more conservative in their ordering and forecasting. The third reality is that our specialty devices are a significant step forward in our customers’ products. We've succeeded in maintaining a broad technical project pipeline, shown in our NREs, but adoption time can be extended, especially as capital becomes tight during challenging economic conditions. Our leadership position is solid, and the categories are intact. However, we must be realistic that some companies will deploy and ramp up slower. Consequently, despite our expanding pipeline backlog and industry leadership, we now anticipate base predictable shippable RFID growth of about 20% to 25% in 2023, as Justin mentioned. This is already adjusted for risk related to the issues above. For example, it incorporates only about 10% of the demand we know Wiliot expects. At full scale, Wiliot would add 15 to 20 percentage points to this growth rate, pushing it above 40%. We won’t project that until we confirm demand and supply chain stability. Similarly, we assume economic slowdowns could impact customers, even if only temporarily. Therefore, in a recessionary and supply-constrained environment, we anticipate 20% to 25% growth. We aware that with our miss last quarter, even this will be questioned; we’re confident we’ll achieve it and then deliver what we’ve excluded from our core base. But we know we'll need to prove it first. Turning to Premises, it's also indicative of strong demand while having a supply chain we can manage effectively. We expect growth to continue well above the industry’s growth rate. We managed the supply chain well; even partway through the quarter, we encountered shortages that potentially could have impacted over a million dollars in shipments. We strategically adjusted and overcame that while maintaining strong demand and a solid plan that resulted in Premises revenue growing with demand education throughout 2023. One key difference between Premises and RFID is that, in Premises, we're dealing in thousands of units, not millions. By securing chunks of hundreds of units on the spot market, we are able to close gaps on most shortages, which is much better than our competitors. HID is still telling the market that their multi-month lead time will continue into next year. We are shipping in a few weeks lead time and usually within a few days. As a result, we're capturing market share from HID and others, providing confidence in premises growth this year and continuing throughout 2023. Solid demand exists in both areas of our business; we intend to manage the supply chain so revenues grow with demand without being constrained by supplier production. Identity anticipates realistic supply matches proportional to our expected shipments. With RFID shipments sustainably forecasted to exceed 25% year-over-year in 2022, while premises growth is expected in the mid-teens—both partially offset by our legacy identity readers declining this year. For 2022, we anticipate around 10% to 12% growth, with RFID growth continuing at the same pace in 2023, alongside premises growing 20% to 25%. We expect overall growth for Identiv in 2023 will range between 20% to 25%, all while maintaining solid gross margins. This growth projection doesn’t include some end-user demand growth in RFID like Wiliot, which could unexpectedly add over $20 million in 2023, assuming we can manage supply and demand effectively, even as the economy slows. Despite our disappointing miss in Q3, our strategy and business remain solid. We're positioned in major markets to be clear leaders. We're committed to achieving much better predictability, thus bolstering investor confidence while we continue to expand our business and serve strategic customers who drive long-term success and business value. With that, I'll ask the operator to open the lines for questions. Operator?

Thank you. We will now take your questions. Okay, the first question is coming from Mike Latimore with Northland Capital Markets. Your line is live.

Great, thank you, Steve. I understand the supply chain comments and remedy there on the sort of customer order reliability. Can you dig into that a little bit more? Are there particular verticals? Are there customers that are canceling outright? Are they just lowering volume? A little more clarity would be great.

Yes, and I'll provide as much clarity as I can. As I tried to communicate earlier, I wish we had more clarity regarding what's going on. It was a pushout nominally, but they indicated that we must remain cautious about our projections moving forward, just as I communicated here. I want to be careful about identifying any individual customers here. Ultimately, it's a consumer-related product from one of our larger customers. They are usually very reliable during economic downturns. When we see them get soft on a short-term basis, they attribute it to their supply chain adjustments from China to India. However, we suspect that some of it might actually be due to end-user demand. I'm happy to provide more information on that if you'd like. But the main takeaway is we must remain cautious on end-user demand because, even if people aren't seeing softer demand, they might just temper their orders and draw down their inventories, which impacts us as well. That’s why we're approaching economics and forecasts from any of our major customers with caution.

How much is changing? How much of the change in growth rates, say in fiscal '23? I think you went to 20% to 25% from 30% to 35%. How much does that change stem from demand concerns versus supply chain concerns?

Fair clarification. Honestly, I'd say it's about 80% to 90% supply chain versus 10% to 20% economics. So it's more heavily related to the ability to access supply. If you examine our backlog growth, you can clearly see that demand is valid and present. I would classify it as being weighted more heavily towards supply chain issues. We were fairly confident about our supply chain up until the middle of the year, and we didn’t plan adequately for ongoing surprises regarding supply chain issues. That has prompted the biggest pause here. Additionally, I want to emphasize that if we were able to satisfy Wiliot's full demand, and the demand from others, the growth would be substantially higher. However, we aren’t willing to project that until we are certain about our fulfillment capabilities from the supply end.

Got it. And just how should we think about cash flow from operations in the fourth quarter? Positive or negative?

Let me hand that over to Justin for that.

Hey, Mike, while we do have some CapEx planned for Q4 concerning some of our larger projects, I would anticipate cash to be relatively flat to decrease slightly.

Okay, got it. All right, thanks very much.

Thank you, Mike.

Okay, the next question is coming from Craig Ellis with B. Riley. Your line is live.

Hi, this is Michael Mani, on behalf of Craig Ellis. Thanks for letting us ask a few questions. My first question is just to characterize the sort of maybe demand-side risks that we could see over the next few quarters. You mentioned the potential weakness in the consumer segment. How would you characterize the risks across your other verticals like healthcare, specialty retail, etc., for decommits, pushouts, and potential volume reductions? Anything you'd want to call out there? And what kind of levers or projections do you have in place to offer downside mitigation in that case?

The best downside mitigation, let me address that first, is that we do have strong demand. Amir Khoshniyati, our general manager for that business, has built a very effective sales team. I want to emphasize that the demand side has remained notably strong across the board, including the NREs and everything else. Large customers making isolated choices can considerably impact us. We are now conducting weekly meetings to review all the alternatives available to fill any gaps. If we see a large gap occurring, we may need to offset it with five or six smaller orders. Amir, would you like to provide additional commentary on that?

Sure. Building on that, our strategy has always aligned with our ongoing efforts to build a global team that is regionally distributed yet focused on winning new business. This approach helps to minimize our risk of dependence on a single large customer which could otherwise significantly affect demand. We are actively building out this team, resulting in the NRE show growing from 38 to 56 in Q3. We are also engaging in smaller engagements as well. Our product mix is at an all-time high. As we progress through this quarter and into the next year, our strategy is to deepen the relationships within these accounts. This should help alleviate much of the pressure caused by larger customers. So far, our strategy has remained strong, and we’re placing more emphasis there to ensure that smaller engagements can pick up more rapidly.

Amir mentioned larger customer accounts, and to clarify, we don’t have any clients representing 10% or more of our revenue close to that. A million and a half dollars might be a significant sum as a component of $30 million; thus, those expectations must be easily accommodated. As indicated regarding the premises side, we experienced a million dollars of pressure due to supply chain issues, yet we were eventually able to fill half of that gap with supply by scrambling for parts and the other half with excess demand. Therefore, we’ve made sure to position ourselves to fill any turbulence that may arise across all of our business sectors.

Got it. Thank you for all the information. My next question is about gross margins. How should we consider the projection for identity segment gross margin expansion over the next several quarters against the backdrop of these supply-side and demand crosscurrents? What pace of expansion or potential delays should we anticipate, and when could we start seeing more upward momentum towards higher 20% segment levels that we hope to achieve?

Currently, we project margins to remain relatively flat. Based on today’s environment, it’s the appropriate course of action for us to adopt, given the supply chain uncertainties and the macroeconomic conditions we discussed today.

That’s helpful. Thank you. Finally, regarding the Wiliot deal and the potential for upside next year. I know you’re not factoring that into your forecasts, but could you specify the potential milestones and catalysts that could enable that upside? How might that unfold throughout the year to capture the full projected growth?

Yes, indeed. Wiliot has openly discussed their order, so we can also share that information. They’ve placed an order for 25 million units; whereas we would ideally like to aim for 10 million units in Q4, scaling from a standing start with both process and supply elements will not allow us to reach the total. Wiliot has openly stated that the mentioned 25 million quarterly run-rate is less than what they aim for given their demand. This means ramp-up could occur fairly rapidly, and it will become evident in our results as we deliver because we anticipate strong demand. Our strategy is to accelerate by maintaining our focus on both process improvement and securing adequate supply. While we aim for 10 million in Q4, the demand will just pile on for Q1. The high $0.20 unit prices reflect considerable financial benefits and scale for us. Given our operational scalability, it would be irresponsible for us to include that in our baseline projections until we know we can deliver; otherwise, it skews our expectations for the immediate term. However, we have confidence that this business will materialize. We encourage you to review Wiliot’s site for additional information on their timeline and projects.

The next question is coming from Jaeson Schmidt with Lake Street. Your line is live.

Thanks, guys, for taking my questions. I want to follow up on gross margin. I know you mentioned that the revenue shortfall stemmed from identity. Obviously, the percentage of revenue composition was flat. So, could you quantify the supply chain's impact on gross margin? Did you expect premises to have a stronger sequential growth in Q3?

Premises typically sees a boost in Q3 due to the federal government's fiscal year-end, which we anticipated. So we do expect an increase in premises for Q3 due to normal seasonality year-over-year. In terms of identity and gross margins, we typically refrain from going into that level of detail. However, gross margin was relatively flat quarter-over-quarter, with a slight decline in identity margins, which we were prepared for. We met our margin guidance for Q3, which was 37%, aligning closely with consensus estimates, so we're satisfied with our margin outlook.

Okay, thank you for clarifying the Wiliot situation. Just to clarify, this order for 25 million units relates to a single customer and program. Will any potential upside still be derived from this single customer program or do you foresee new customers and programs emerging?

Wiliot is, of course, our customer, and I defer to them for clarification on which customer or clients their program pertains to. For us, the ratio of demand is primarily concentrated within one major customer, but I would prefer not to elaborate too deeply on their business matters. However, I can confirm that they have shown us solid confidence in that demand level.

Could you provide some insight into the ramp-up timelines for the auto-injector market?

When considering the auto-injector market, it’s essential to approach timelines with caution. Progressing rapidly for new products like autoinjectors is infrequently the case due to extensive lead times and adoption challenges. We’re currently engaged with five different projects across four client companies; some may proceed faster than others based on the nature of their products. I emphasize there is a distinct likelihood of growth over the next several quarters, and the first half-million units are already sealed and confirmed, which indicates we can expect further growth.

To maintain confidentiality, our progress has been strong with our first customer. We've successfully managed joint IP workstreams, and we secured our first NRE with a second customer, their competitor. We've produced two different designs for both clients, which we delivered in Q3. Our position is strong as we head into next quarter, providing prototypes for them to evaluate, highlighting our trajectory in the market's evolving landscape.

Thanks a lot.

Thanks, Jaeson.

The next question is from Anthony Stoss with Craig-Hallum. Please proceed.

Hi Steve, I wanted to follow up on Wiliot. If I understand correctly, you’re aiming for 10 million units in Q4 out of that 25 million, reducing your guidance for next year by about $30 million. So, just to clarify, are you planning on assuming only around 10% for Wiliot in your forecasts? If they require 25 million units quarterly, that should equate to a revenue of nearly $30 million, but you're only projecting 10%. Am I understanding this accurately?

That is indeed correct. That’s how we projected it.

Okay, just trying to understand if a potential risk might arise if this customer isn’t satisfied with receiving only 40% of what they ordered.

That's a fair concern, and Amir can provide further details since he maintains close relationships with them. We have openly discussed the ramp-up timeline with them, indicating we wouldn't reach the full 25 million units this quarter. They understand our situation and are primarily focused on ensuring our processes are optimized for production and supply needs. We are working closely with them, making transparent discussions about any supply chain disruptions to maintain a positive relationship moving forward. I am confident we will meet growing demand.

Switching gears, regarding OpEx, with increasing demand and the current supply issues, are you planning to reduce OpEx or maintain it at current levels? What are your outlook and expectations?

We do plan to reduce OpEx slightly in 2023. If you're analyzing the situation, it seems relatively flat since we had notable growth in OpEx for 2022. By the end of Q4, we’ll factor in the full-year impacts; likely, there will be minimal increases but nothing significant or material in terms of OpEx from headcount or other areas.

Thank you. That's everything from me for now.

Thank you, Anthony.

We have a follow-up coming from Mike Latimore with Northland Capital Markets. Mike, your line is live.

Thank you. Steve, did you provide the backlog tied to premises? I think you did, but I didn’t catch it.

Yes, the backlog linked to Premises was about $3 million. The backlog going into Q4 was approximately $3 million, and the total backlog likely has a similar portion because Premises doesn't typically have extremely long backlog. Total backlog was $36.9 million, with around four to four-and-a-half million in premises included for this quarter.

Considering your guidance for next year indicates an acceleration in premises at 20% to 25%, how do you assess visibility, factoring in economic uncertainties?

That’s an insightful question. I don’t want to overstate confidence, but we have quite good visibility into that category through channel and customer awareness as we build our sales team and launch products. Additionally, our federal base adds predictability as they continue investing in physical security. We know what those budget growth areas will be. With our commercial customers, as we've discussed, the San Diego airport is actually part of our commercial business as they expand. Their plans include constructing a new terminal and administration building over the course of 2023. We have a clear line of visibility into drivers of growth for that business for 2023.

Thank you.

Sure, Mike.

At this time, this concludes the company's question and answer session. If you have a question that was not taken, you may contact Identiv’s Investor Relations team at inve@gatewayir.com. I would now like to turn the call back to Mr. Humphreys for his closing remarks.

Thank you, operator. And thank you all for joining us. As you can tell, we're really focusing everything we have on building our business for the long term and especially on delivering on our near-term commitments, regardless of any of the external factors. We've talked a lot about how we're trying to mitigate all of that. For sure, out of all this, in addition to supporting our customers, predictability is our top priority. We'll keep updating our investors either in individual calls or at the Craig Hallum conference in New York on November 17, the B.Riley fireside chat on December 6, the Imperial Capital Conference in New York on December 15, and other investor events, of course, slated for the new year. Thank you all again, and have a good evening.

Thank you for joining us today. You may now disconnect.